DBRS Revises Trend to Stable on Home Depot’s Long-Term Debt Rating

DBRS has today revised the trend on The Home Depot, Inc.’s (Home Depot or the Company) A (low) Senior Unsecured Debt to Stable from Negative. At the same time, DBRS has confirmed the Commercial Paper rating at R-1 (low) with a Stable trend. The trend change reflects the Company’s successful efforts to manage its financial performance in the face of one of the worst economic downturns in recent memory. While the U.S. economy continues to find its footing, the Home Depot has rebounded from the lows during 2008 and 2009 to a sustainable level that is consistent within the A (low) level.

With continuing high unemployment in the United States and a large housing inventory, Home Depot’s prospects for 2010 compared to 2009 point to only modest growth in revenue as the year progresses. DBRS expects that the growth in Canada and Mexico could be moderated by flat growth in the United States. Both years will remain well below historical levels, although the decline in sales per sq. ft. and same-store sales in the United States seems to have leveled off.

The key point over the past year-and-a-half has been management’s considerable success in reducing costs, with lower overhead (i.e., reduced non-sales labour and less total store square footage) and growing operating efficiencies (i.e., new rapid deployment centres and other technologies that improve inventory control, supply and merchandising). These and other actions protected the Company’s profitability in 2009 (gross margin remained above 33%, EBITDA was $6.5 billion and debt-to-EBITDAR remained below 2.3x). In turn, this allowed cash flow from operations in 2009 to remain well above $4 billion. With a 50% cut in capex to under $1 billion and no share buybacks, free cash flow rose to near $2 billion, a level not seen since 2007. This enhanced liquidity allowed the Company to finish the year with more cash-on-hand (about $1.4 billion) and lower total debt.

In 2010, DBRS expects some improvements with sales growing modestly based on stable market share. Along with continuing productivity improvements, EBITDA should near $7 billion and cash flow from operations should rise above $5 billion. As a result, debt-to-EBITDAR should remain below 2.3x. With $1.25 billion in capex and $1.6 billion in dividends, free cash flow this year is expected to exceed $2 billion. Assuming the notes coming due this year will be refinanced, this would allow the Company to return to a share buyback program.

DBRS expects Home Depot to maintain its industry leading market position, supported by efforts to adopt best-in-class operating systems. This, and the outlook for 2010 noted above, would continue to support the Stable trend. The key issue from our perspective is the customer experience on the sales floor. All the smart inventory planning, supply, control and merchandising, in the end, must be supported by a positive experience on the sales floor.

While unlikely, if the downturn in the U.S. economy was protracted or there was another decline, DBRS believes Home Depot has the ability to minimize the impact to its credit metrics, should it decide to do so. However, if a serious deterioration in cash flow or liquidity were allowed to persist with elevated capex, debt financed share buybacks or large acquisitions, there could once again be pressure on the ratings.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Merchandisers, which can be found on our website under Methodologies.

This is a Corporate rating.